Affluent investors seeking to splurge on a vacation home or vintage Ferrari GTO are increasingly tapping into a cut-rate source of financing: The Bank of Me.
Ultra-wealthy people have long leveraged hefty paper profits in their investment portfolios into bargain loans that provide immediate cash. Now ordinary rich investors flush with gains during the COVID-19 pandemic are doing the same, bankrolling pricey purchases and paying off major obligations.
Securities-based loans can give investors both sides of the trade. Borrowers don’t sell their stocks or bonds, so their retirement portfolios preserve the same room to grow as before. They get cash reflecting the profits their investments have reaped, just as the pandemic economy lifts and pent-up demand surges. Best of all, the loans give borrowers access to the fruits of their wealth without having to pay capital gains taxes (now 23.8%, including the Obamacare surcharge, and set to nearly double under a proposal by President Joe Biden).
A regular securities-based loan, which can’t be used to buy stock, is sometimes called a pledged asset line. When used to buy stock, it’s called a margin loan. Both loan types have soared in recent months. Individual consumers (along with broker-dealers that lend out securities for their own accounts) had nearly $882 billion in the loans in June 2021, up nearly 51% from nearly $585 billion a year ago,
You are effectively the bank
Thomas MacCowatt, a partner and CFA at Williams Jones Wealth Management in Palm Beach, Florida, says that people taking the loans “are borrowing to fund a house purchase.” He cites married clients who recently borrowed around $2 million to purchase a vacation home in Colorado.
“Rather than going to JPMorgan and getting a mortgage of 3% or 4%, they can borrow against their own portfolio and get a lower rate,” he says.
His clients also saved on taxes. Had they cashed the $2 million out of their account to fund their purchase, they would have owed $476,000 in capital gains levies ($868,000 under Biden’s proposals, not including any state tax). They would have also lost out on future gains on that money. Assuming a conservative 6% annual rate of return, the $2 million would be worth more than $6.4 million after 20 years, according to
Tax laws prohibit using IRAs and their Roth cousins as collateral for a cash loan (many 401(k) plans allow loans). So what’s called the “
A new high in loan volume and a notable influx of advisory AUM drove the wirehouse’s business to more than half a billion dollars in second-quarter net income.
Big banks aim securities-based loans at wealthy investors, including retired boomers who have solid investment portfolios but no income because they’re no longer working.
“There’s been a spike in interest especially in the last year,” says Andy Kapyrin, a CFA and co-head of investments at independent advisory firm Regent Atlantic. “Many investors with large portfolios have a hard time taking out a mortgage because they are retired and don’t have earned income anymore — mortgage standards are very tight.”
A 1963 Ferrari GTO
Clients of brokerages can go straight to their aggressively marketed programs. “The restaurant you’ve always wanted to open. That advanced degree you finally have time for. The perfect house that won’t be on the market long.
Brokerages that provide custody and clearing services to independent advisors are also
“We’re finding that clients are using securities-based loans a bit more in the current environment than they had previously,” says Daniel Duca, a CFP and associate director at Altfest Personal Wealth Management in New York.
He cites a retired couple who borrowed around $500,000 at 2% interest from a $1 million line of credit backed by their portfolio. He says they used it to buy a house, something that would have been more expensive and difficult through a mortgage lender, given that they’re retired and have less income.
“We’ve secured loans well below 2% for clients recently,” Duca says — far less than rates for mortgages, home equity lines of credit and traditional margin loans.
The process is quick, perhaps several days, and painless — not a lot of bureaucratic paperwork.
“This is often a lower interest cost than other forms of borrowing like personal loans or HELOCs,” Kapyrin says.
What could go wrong?
If markets decline, borrowers face the risk of a margin call, a nasty situation in which a lender immediately demands either more securities or repayment of the loan, and losses can be magnified. Both
Securities Litigation & Consulting Group, in McLean, Virginia, says that “securities-based lending presents some of the most
Meanwhile, investors are partying. Schwab touts the loans as good for things including a “
